Growthology

Repression of Entrepreneurs, Coyoto Blog edition

Typically taxation issues get a lot more attention than these regulatory issues in discussions of government drags on the economy. But these small regulations, licenses, and approvals consume management time, the most valuable commodity in small businesses that typically are driven by the energy and leadership of just one or two people.

That's from a Forbes essay by Warren Meyer, author of Coyoteblog.com.  Best line:

[W]e needed permission from the county to demolish the building the county had condemned--that cost us a couple hundred dollars and several forms.

UPDATE: Check out the follow-up post on Warren's own blog about the July 4 weekend sting on his campground.

Startups Are Everything

My new study just released from the Kauffman Foundation, The Importance of Startups in Job Creation and Job Destruction, is available now. It's short and sweet (7 pages of text), with about as simple a talking point as can be: "New firms add an average of 3 million net jobs in their first year, while older companies combined lose 1 million net jobs annually."  The surprise for me, and I expect most economists/data geeks, is that aggregate gross job creation and destruction curves along the firm age axis are convex, not concave.

I don't have the individual charts in GIF format, but here's a raw one from my spreadsheet. Notice how gross job creation at startups dwarfs gross flows at other firms. For example, startups create 10x more jobs than 10-year old firms, gross, and infinitely more net.  How many economists even guess this is how the U.S. economy works?  I didn't until I saw the data.

 

  

Why Not a Market for Advancing Innovations out of Universities?

Yesterday I had the privilege of delivering testimony on behalf of Bob Litan in front of the Joint Economic Committee. The subject of the hearing was how the United States could maintain its position on the global frontier of innovation, with a specific focus on universities and federal funding of research and development. Most of the Members of the Committee were in general agreement with the panelists: innovation is key to economic growth, universities are important to R&D and innovation, and the United States needs to make some changes if we are to remain an innovative economy.

On one particular point, however, there was a considerable degree of contention. Congresswoman Carolyn Maloney (D-NY) inquired as to the state of technology commercialization in higher education. Can it be improved? Is everything peachy-keen? 

The Kauffman Foundation takes the position that all is not well in the land of technology commercialization. There are success stories, to be sure: Gatorade, Vitamin D, Netscape, MRIs and so on. And there are star performing universities--Stanford, WARF (the Wisconsin system), and the University of California system do a phenomenal job of moving innovations out of campus buildings and into new (and existing) companies. But universities, on the whole, appear to be under-performing relative to what they could be contributing to economic growth. The Bayh-Dole Act of 1980 allowed universities to hold the intellectual property rights to innovations and discoveries that result from federally-funded research. The result was a wave of university innovations as well as a wave of attempts to move university innovations into the marketplace. Most universities receiving federal R&D dollars established technology licensing or transfer offices (TLOs or TTOs) to manage the intellectual property and serve as the liaison for faculty members seeking to commercialize their innovation. As noted, many universities have managed to successfully commercialize new technologies.

As with anything, however, the structure that was set up in response to Bayh-Dole has now run into problems. The productivity of federally-funded research at universities has been declining for a number of years. Technology transfer offices are typically understaffed and unable to manage their university's stream of innovations--innovations, moreover, that often span a wide diversity of disciplines. At the same time, however, bureaucracy has grown up around the process of technology commercialization and dramatically slowed, if not stalled, the process in many places. Anecdotal evidence abounds of faculty members running headlong into bureaucratic drywall at their licensing office. Furthermore, as a result of the outstanding success of a handful of universities with a handful of innovations, many TTOs and TLOs have implicitly or explicitly adopted a home-run mentality, chasing the next big hit at the expense of many smaller innovations. 

Finally, many universities have latched onto the most easily measured outputs of R&D, patents and licenses. But, there is little correlation between federal research funding and the returns (in patents and licenses) on that funding. Maybe we shouldn't expect there to be such a correlation, of course, but the race by universities in the wake of Bayh-Dole to establish commercialization offices and the drift of research spending toward a more political rather than scientific distribution have raised the implicit promise that there is such a correlation. The wonderful historian Roger Geiger has documented such drift: at one time, the distribution of university innovations and federal R&D money to universities both followed a Pareto distribution, with a handful of institutions far outdistancing everyone else in terms of inputs and outputs. Over time, however, while the distribution of innovative outputs remains skewed, the distribution of research dollars has gradually gotten flatter. We expect proportional output in terms of innovations but don't receive it.

There is no magic solution to these bottlenecks, but my colleagues Lesa Mitchell and Bob Litan have come up with a fantastically simple and novel idea: open up technology transfer to market competition. That is, allow a professor from University X with a potentially breakthrough innovation to go outside his or her university's TLO and use that of University Y, if University Y happens to be more skilled at commercialization in this particular discipline. University X would not be required to relinquish IP rights, and of course the professor is not required to do anything. The idea is simply to bring more openness and competition into a process that has become muddled and distorted. Where else in society do we tolerate such artificial monopolies with public research dollars at stake? This idea, in fact, perfectly carries forward and extends one of the primary motivations behind Bayh-Dole--to smooth the commercialization process. Bayh-Dole was enacted in part to construct a platform upon which faculty and professors could more easily interact with companies (new and existing). Allowing universities to hold IP rights was meant to remove one of the legal entanglements in this process.

Who could oppose such openness? Who could oppose competition when competition has been shown repeatedly to be the best avenue toward maximizing innovation and social welfare? Not to sound trite, but follow the money. Most universities and TTOs and TLOs vehemently oppose this idea. In fact, you can scroll through the webcast of yesterday's hearing to the very last question and witness the animation with which Dr. Samuel Stanley opposes the mere mention of this idea. Basically, the opposing arguments boil down to these: (a) there is no evidence that the current licensing process is dysfunctional; (b) allowing such "free agency" would give rise to all the legal problems that predated Bayh-Dole and were put to bed by that legislation; (c) no professor and no university wants to do this; (d) technology commercialization is a delicate art that cannot be commoditized; and (e) the current system is working fine as it is--as proof, look at all the great innovations universities have given us.

Unfortunately, I did not get a chance for a counter-rebuttal, so I offer it here. First, Dr. Stanley (and others) confuses an absence of evidence with evidence of absence. The absence of overt dysfunctionality does not imply the corollary, that things are hunky-dory. In fact, the arguments I've mentioned above regarding research productivity and returns to patents and licenses would seem to indicate something is amiss, as would the growing stock of anecdotes from frustrated professors and companies. It is of course nearly impossible to prove that something like a university is not living up to its perceived potential in terms of commercializing innovations, but the inability to prove that there is room for improvement is not an argument against opening up the process. That, in fact, is the nub of the free agency proposal--just open it up. No one would be forced to operate as a free agent or to contract with a free agent, as Dr. Stanley seems to think we are suggesting. This is entirely optional, as is any competitive market. It could even be optional at the level of the department or school of any particular university, with one department perhaps choosing to work with ABC agent while another chooses XYZ agent.

Dr. Stanley also predicts that such openness would instigate a return to those dark days before Bayh-Dole when legal machinations corrupted every attempt at commercialization--contract disputes, broken agreements, etc. Oddly, however, technology commercialization at universities is still plagued by these problems--Bayh-Dole did not banish legal disputes, and I'm not sure how Dr. Stanley manages to pull off such cognitive dissonance.

By opening up the technology commercialization process, we would likely see the development of completely new organizational forms to facilitate the process. No one can predict what will happen--and that is exactly the point. Maybe free agency will flop; maybe it won't. But there is no (or shouldn't be) single model when it comes to technology commercialization: free agency would encourage experimentation as a way to lower transaction costs, which was precisely the idea behind Bayh-Dole. In fact, many professors are already finding their way around the TLOs and TTOs, doing "end-runs" around the bureaucracy and finding their own commercialization routes. Rather than see this perversion as a defense of the status quo we should encourage free agency as a way to promote the development of more such alternate pathways. In their promotional materials and commencement speeches, university administrators consistently trumpet the glories of diversity and self-actualization and intellectual experimentation--except, it seems, when it comes to their own operations.

That seems to be a running theme of opposition: technology commercialization is special and cannot be subject to the rules of the market that govern the rest of the economy. Dr. Stanley is far from alone in asserting that each particular innovation is unique and must be granted its own customized commercialization process that can only be run through a TLO. Undoubtedly, there is some truth to this. Just as clearly, however, there is plenty of room to lower transaction costs by standardizing some portions of the commercialization process. This is precisely what UNC-Chapel Hill has done with the Carolina Express License Agreement; we will keep you posted as to whether or not the world ends as a result of this dangerous experimentation with technology commercialization.

Finally, we come to the tried and true defense that everything is fine. Universities have, after all, contributed enormously to economic growth and human welfare. Why mess with success? The real message, however, is: don't mess with us! This is the completely predictable and understandable response of any institution when its monopoly is threatened and should, in fact, serve as a reason to promote more experimentation. Just because universities have contributed much in the past does not mean they are performing optimally today (research is only one of many fronts on which we could have this discussion) and does not guarantee that they will continue to do so in the future. If bureaucracy keeps building up around the discovery and innovation process, it is almost guaranteed that they will not.

Who Declared War on Entrepreneurs?

Nick Schulz over at the Enterprise Blog draws our attention to an apparent crackdown by the IRS on the flexible employment arrangements used by many independent contractors and small businesses. It's not clear what impact this will have but, anecdotally at least, there have been reports that many new and young businesses in this recession have been turning more and more to freelancers and contractors. And we've seen the average size of new companies shrink over the past few years by about two employees--as noted in the story above, this likely indicates increasing use of such flexible arrangements.

Put this together with the anti-angel provisions in the Dodd bill (which I think may have been slightly diluted recently), and it seems as if someone has declared a war on startups. Which is, in other words, a war on job creation and economic growth.

The Accumulation of Firms and the Predominance of New and Young Companies

This is a sequel to last week's post about moving from Paul's drunkard's walk to the accumulation of firms over time. Basically, the message of those two posts is that the internal dynamics of the American economy--lots of new companies founded each year, the exit of firms at all ages, the persistent predominance of young firms as the economy moves through time--make it highly probable that job creation will come from new and young companies rather than older, more established companies. (In these data that we're using, a firm is no longer classified as "young" once it reaches age 6, so the term "older," perhaps imprecisely, includes firms ages 6 and up.) Thus, when we say that new and young firms account for most net job creation in the U.S. economy, we are partly describing the reality of these firm dynamics.

This doesn't diminish the importance of these companies or the jobs they create. After all, the reality of these dynamics is premised on four things: a more or less steady inflow of startups; more or less consistent survival rates from year to year; comparable gross job creation and gross job destruction in older companies; and a higher number of jobs created at young firms (4 versus 1). These are not functions of what might be perceived as mathematical inevitability--they are the reasons behind the mathematical probabilities we are describing. If the level of firm formation were more volatile, if older companies created more jobs than they destroyed, if young firms were somehow suppressed in their hiring (through, perhaps, bailouts of larger, older companies; just speculating here)--if these variables changed, the dynamics of firm age through time, and subsequent job creation, would be different.

But, in recent history, these variables have all held and together they have created a picture that does, in fact, resemble something like mathematical inevitability, but which is probably more accurately described as a likelihood, or something of higher probability. In any given year over the past three decades, young firms (startups [age 0] and firms ages 1-5) have constituted the largest demographic of firms in the United States. Starting an economy at t=0, going out 25 years, the influx of new firms and the survival rates of firms over time generate this outcome. And, we might expect (provided the other variables are true) that the largest demographic sector will create the largest number of new jobs. This says nothing, of course, of innovation or productivity, subjects for another day.

Here, I want to supplement last week's post, which used average figures calculated from the Business Dynamics Statistics data, with the actual numbers from that dataset, which covers 1977-2005. That is, did reality conform to the stylized numbers we used last week? (The charts will not follow precisely the same format because last week's charts extrapolated out beyond 5 years on an annual basis, while the actual data aggregates firms into 5-year age categories after the fifth year: 6-10, 11-15, and so on.) We'll start, first, with the U.S. economy starting de novo in 1977, with only firms that came into existence that year. How, over the next 28 years, did the composition of firms by age change?

Here, startups (age 0, new firms founded each year) are broken out separately while all other firms are combined into 5-year categories. The data generally track the accumulation pattern revealed in last week's post: in any given year, young firms (ages 1-5) will quite naturally comprise the largest sector in terms of firm demographics. Note how few firms in 2005 are included in the 26-28 age category--these firms were founded in 1977-1979. By 2005, 19% of the firms founded in these three years remained. That may be more than expected, but using the survival line for firms founded for 1977 we can trace a slowly declining line of survival out two decades. If we imagine that the line continues on that downward slope for the next two decades, it appears as if very few firms in the economy survive more than four decades. Either those firms we all delight in describing as "dinosaurs" should properly be seen as remarkable achievements, or firm failure (over time) is a much more dominant force in the economy than we perhaps imagined. Probably both, and I'm probably simplifying here.

The advantage of using the real data from BDS is that we can include the "left censored" firms in our calculations, those companies founded prior to 1977 but for which we don't have age information. In 1977, then, these firms could be anywhere from age 1 to age 100. But we can track their survival after 1977 against all firms founded after that year. How long do these companies persist?

I included a brief explanation within the chart itself, but you can clearly see how these pre-1977 firms gradually decline in number over time, while new and young firms in any given year gradually get bigger in comparison. By 1988 (the circle), the pre-1977 firm group has shrunk such that it is now smaller each subsequent year compared to cohorts of new and young companies. By 2005, these firms still number 1.5 million, accounting for about one-fifth of all firms in the economy. This is a lot, but is an aggregate of every year before 1977, so there are probably a good number from the 1970s, a proportionately smaller number from the 1960s, and so on. 

Now, we can include these pre-1977 firms in our overall chart of firm demographics over time and compare firms of all ages:

This is actually an incredibly interesting chart, as the text insert fleshes out, but I'll repeat it here so you don't have to open the image itself. It shows two different ways in which firm composition changes and in which new and young firms consistently account for the bulk of firms in the economy. In 1977, the t=0 moment here, the economy is composed  of a class of startups (age 0) and all other firms existing that were founded before 1977. As the economy moves through time, you see four things happen. First, age 0 firms and age 1-5 firms account for a steady slice. Second, the overall number of firms accumulates. Third, the pre-1977 firms gradually decline in number. Fourth, post-1977 firms that age through time also diminish in terms of their numbers as fewer survive in subsequent years. So new and young firms dominate the economy (numerically) by two mechanisms: gradual disappearance of older firms and gradual disappearance of firms as they age. Same thing, different pathways (on this time scale).

Finally, we'll move to the percentage shares of each firm demographic (excluding pre-1977 firms here):

Once we get to a point where we have firms older than age 6 (and remember, the pre-1977 firms account for the missing shares here) in 1983, new and young companies account for between 30 and 40 percent of all firms in the economy. This percentage naturally falls over time, albeit slowly, as the overall number of firms grows, but this demographic of firms nonetheless comprises the largest demographic slice--a plurality, if you will--in each year, and this would persist over time.

So what, if anything, does this all mean? It means that new and young companies account for most new jobs in the economy in part because they are the largest demographic category of companies. It also means that job creation may actually be a secondary story here because this reality is a reflection of underlying dynamics that have been remarkably persistent over the past three decades. The United States has enjoyed a more or less steady level (and rate) of firm formation and survival rates for those firms have also been rather steady. Older companies, moreover, experience roughly equal levels of gross job creation and destruction, meaning their net job creation approaches zero.

It is entirely possible that these are transitory phenomena. As far as I can tell from the desultory data and research on firm formation prior to the 1970s, entrepreneurship (and subsequent survival rates) across the entire twentieth century have been remarkably consistent (I mention this, with an accompanying citation, in a forthcoming paper, so I'm not simply making this up). According to some Census data, for example, the number of new business created each year doubled from the 1940s to the 1990s--yet the country's population also doubled so the per capita rate of firm formation remained steady. Over the past thirty years, moreover, entrepreneurship rates have been remarkably steady, not declining as some have alleged. 

Yet we surely can't assume that the dynamics beneath such factors are immutable. The preponderance of research concerning firm demographics in many European countries, for example, holds that firm exit is a much smaller factor and that, consequently, unproductive firms simply continue to exist and new firms are dissuaded from entering. Large companies enjoy favorable policy and so the above charts might look quite different for other countries and clearly indicate that the dynamics can change. Even if part of what the above charts do is describe a mathematical reality, it could be considered progress if policymakers in Washington and elsewhere spoke in terms of this reality rather than giving undue attention to the largest companies in the economy (which, incidentally, often seek regulation as a means of protection from competition from startups). What this all means is that startups and young companies are no less important than we thought before--they are a robust and enduring dimension of the U.S. economy. It would be foolish, however, to assume that this is somehow a natural or permanent state of affairs--policy could easily be made to alter these dynamics for the worse.

From a Drunkard's Walk to a Pile of Drunks

This morning Paul wrote a very insightful post about job creation by new companies, trying to put things in a larger economic and mathematical context. (I am one of those (blessed? unfortunate?) people who thinks the game of baseball explains everything in life, including the economy, so it helps me to think of Paul's post in terms of the never-ending debate between sabermetricians and those who prefer a non-statistical view of baseball. In this view, Paul's post is the equivalent of putting a 5-hit game on Opening Day in a larger context of probability, rather than imbuing it with deeper meaning.)

I want to try to round out Paul's point by discussing the accumulating universe of firms over time (or, the accumulating pile of drunks in Paul's illustration). In an economy with a more or less steady influx of new firms and more or less consistent survival rates, we will have an accumulating number of firms as an economy moves through time. And, in any given year, "young" firms (5 years old and younger, including brand new startups) will constitute the largest percentage of the overall number of firms. By sheer arithmetic, then, shouldn't we expect that we will see a large number of new jobs from the largest cohort of firms? Maybe, maybe not.

Here is how it might work. Let's start with an economy with zero firms. In Year 1, we have 700,000 new businesses started (firms plus establishments; my thanks, by the way, to Mike Horrell for research assistance). Using survival rates calculated from the Business Dynamics Statistics database, we know that the average survival line for firms founded each year since 1977 looks like this:

So twenty percent of new firms survive to age one, two-thirds to age two, and so on to age 5. For age 6 and up, Mike used imputed survival lines extrapolated out from age 5. The real-world will be lumpier, but from what research I've seen from the SBA and others, the survival line post-age 5 is mostly a smooth downward slope. At some point, it likely becomes a near-asymptote, although some organizational research does suggest that survival for several decades, say to age 40 and beyond, is quite rare--conceivably, all firms die at some point.

Using these survival rates we can construct a chart showing the birth, death, and survival of firms as an economy moves forward from Year 1. In the first year, there are the 700,000 new firms. In Year 2, the initial batch of startups now consists of 552,440 firms, joined by the second year's round of incoming startups, another 700,000. So there are now 1,252,440 firms in this economy. If we continue this process out to, say, year 25, the process looks something like this:

 By year 10, firms ages 5 and younger account for nearly two-thirds of all firms. By the end of the series, in year 25, firms ages 5 and younger account for one-third of all firms. With assumed constancy of startups and survival rates, the absolute number of firms younger than age 5 remains the same but constitutes a decreasing proportion of the entire universe of firms. It remains true, however, that in any given year, young firms make up the largest cohort of companies. This would be reinforced if we added a constraint that no firm survives past, say, age 20. The point is that if the level of firm formation is steady (which it has been in the United States), and if survival rates for new firms have been consistent (ditto), than this is what an economy's population of firms would look like over 25 years.

What does this mean for job creation? It means we should expect the largest number of new jobs from the largest cohort of firms. I don't think is purely a function of the numbers, however--data from economists at the Census Bureau indicate that young firms add, on average, 3.7 (net) jobs per year. Firms ages 6 to 28, meanwhile, add (net) about one job per year. The oldest firms (age 29 plus) add nearly two and a half (net) jobs per year--still fewer than young firms. So it's true that young firms are adding one to two more (net) jobs per year than older firms, but this might be where Paul's drunkard's walk comes in.

So if young firms add 4 jobs per year, that means they add, in net terms, about eight million per year. In year 25, for the other 5 million firms in the economy, they will add about five million jobs; in year 10, they will add four million. (Note that in year 25 we haven't yet reached a point with any 29-year-old plus companies.) Many of those older firms will of course be larger than young companies, but we're talking about their net incremental contribution to American employment. 

None of this changes the fact that young firms account for most net job creation in the United States over time. What I'm wondering about is the why of this. Is it a subjective or normative comparison: young firms are "better" than all other companies? Or is it (partly) a function of mathematics and probability? What, if anything, does this mean for policy? It's never a bad thing when commentators and policymakers begin to realize the importance of new and young companies and stop seeing the economy solely in terms of our behemoth firms, but it's not clear what policies fall out of this if what we're talking about is a natural accumulation of firms and the ensuing natural distribution of net job creation. There is still plenty of dynamism to be worked in here--job creation, job destruction, the outstanding growth of certain companies--but this is (I think) an important point to make. 

It parallels something else I've been working on with regard to high-growth or top-performing firms. When we say that young firms create X% of jobs, or high-growth firms account for X% of job creation, should we be surprised that reality looks this way? Or, should we be more surprised if the economy did not look like this? In the case of high-growth firms, the question is: are we surprised that we find something resembling a Pareto distribution? Don't get me wrong--this does not belittle the importance of new and young firms and what they contribute in terms of jobs and innovations. Far from it. But it is important to keep things in perspective, mathematical and economic. Kind of like an Opening Day performance.

Startups in an Evolutionary Model

In describing how human knowledge advances, Donald Campbell devised the BVSR model to explain the evolutionary way in which knowledge accumulates. BVSR stands for Blind Variation and Selective Retention and is more or less natural selection applied to creativity and epistemology. Others have explored Campbell's with great insight and how it applies to fields such as organization science.

Evolutionary economics moves in and out of fashion but for the most part remains on the fringes of economic thought. Prompted in part by Paul's post earlier today, I'm wondering today about startup firms in a BVSR model of economic dynamics. It's no surprise (and, I don't think, controversial) that free market competition works through an evolutionary process of selection. Individuals and companies try various things (new products, services, processes) and their fate hinges on whether or not the market "selects" them vis-a-vis competing ideas. These new products and services are the variations in BVSR, whether radically new innovations or incremental improvements on something that already exists. We throw lots of spaghetti against the wall to see what sticks. Economic variation, of course, is not completely random since firms often seek to satisfy a previously identified market need or solve a heretofore unsolved problem. Variation is, however, blind in Campbell's sense, in that we do not know beforehand what will or will not succeed. "Blind" refers to our knowledge (more specifically, our lack of knowledge) about the consequences of any particular variation.

So we continuously introduce new variations into the market. The manner in which they are winnowed and propagated is "selective retention." Selection is clear: a new market variation either succeeds or it doesn't. Or, more precisely, it either survives (is selected) or doesn't survive (is not selected or selected against), with survival not always a proxy for subjective superiority. Here, it seems like the BVSR model advances somewhat beyond the standard view of the free-market-as-natural-selection (in addition to the explicit recognition that variations are blind). Once a variation is selected, what happens to it? It is retained, meaning it somehow propagates through the population. A variation doesn't merely survive--it grows and spreads. 

How would you increase economic growth or increase innovation through the BVSR model? Let's say each element is multiplied by the others, so growth or innovation is the result of V x S x R, all divided by B. Increasing any one element in the numerator should theoretically increase the product. (It's not clear that this should be true, by the way. I haven't convinced myself that multiplication is correct here. I suppose it's conceivable that it could or should be, for example, "+" R. This isn't a research paper and I'm just following an idea here, so please feel free to take issue with this. At this point, it's of de minimis concern.) According to this, then, you could increase growth or innovation by increasing variation (the introduction of new products and services), improving the selection process (so only "good" or "right" variations are selected), and improving retention, to the properly selected variations quickly achieve rapid scale and propagation, disseminating their benefits to everyone.

How would we approach startups here? Obviously, startups are one type of variation (at the population-level of the economy). They are selected for and against: roughly half of new firms (48%) survive to age five, with the survival curve slowly falling after that. (I've seen some data indicating that one-third of new firms survive to either age 7 or age 10.) Survival, of course, tells you little about success or quality, and selection in the case of firms is an ongoing process. Some research suggests that only the tiniest handful of companies survive for more than a few decades (suggesting that groups such as those companies on the Fortune 500 are both an incredibly small minority and, perhaps, a secondary story--maybe failure is the dominant story of economic selection). Retention could be either the organic growth of young companies or, I suppose, acquisition by larger, more established companies. (Revenue or employment growth or both would here serve as a proxy for another way of looking at retention: spread of a company's product through the market.) With the denominator, "Blind," we might want to reduce the blindness of our variations--that is, wouldn't we want to have a better idea of the prospective fate of new firms? Or, should B be another multiple here? Would increasing blindness be better because it would throw more of the burden onto the competitive process? Perhaps B is neutral here? That is, perhaps it cannot be increased or decreased? 

In any case, let's assume, with good reason, that startups are absolutely essential to innovation and economic growth. To increase these, what would we do with startups in the BVSR model? To begin with, could we reduce the blindness of a particular startup's fate, or the fate of all startups together? (It's not clear, moreover, what Blind should refer to here: mere survival to a certain age? Success, however nebulously defined?) Let's say Blind refers to the state of knowledge facing the founders of a new company: they do not know, and can't know, whether or not they will "succeed," however they define that term. (Although, if your objective is to simply work for yourself or the ability to wear flip-flops to work, then merely starting your own company can be considered success.) From a macro perspective, it's not clear that we can either reduce or increase blindness at the startup stage--the figure given above for survival to age five (48%) has been remarkably consistent across time. The survival rate for new firms, that is, doesn't appear to vary much founding year. There is some variance by sector but again, the survival lines within each sector are rather consistent, so it's not clear how we could either raise or lower the survival line. Of course, if survival rates have been consistent for thirty years, then perhaps the Blind element is neutralized: there is a 50-50 chance your firm will still be around five years from now.

Now, to Variation. Here, you would simply want to increase the number of new firms that are founded each year, with the expectation that trying more new variations would lead to more "good" things being selected and retained in the economy. An increase here means an increase there. I am sympathetic to this strategy, but I'm unclear as to how we do it. Firm formation in the United States has been pretty steady for two or three decades and the question of how we increase it is not so simple. Things like awareness and lowering barriers to entry are probably our best bets but these will vary by sector and geography and characteristics of the founder. All of this assumes, of course, that a basic increase in startups (more variation) will result in an increase in innovation and growth. And this assumes that we would see a similar proportion of innovative ideas and potentially successful firms in a larger pool of variations--is that a valid assumption? 

Selection of startups occurs through a variety of mechanisms. One, of course, is the market itself: you start a new firm and quickly find out whether or not it will selected in or out. If we increased the number of startups (increased V), then conceivably our selection mechanisms could remain the same, simply working on a larger population of firms. If, however, V remained constant, we might want to intensify S by looking more carefully (somehow) for promising ideas or "sure-thing" innovations. I suppose this is the role played by venture capital firms and accelerators such as Y Combinator. They have many entrepreneurs approach them and apply to them, but only select a few for funding or developing. Those that they do not select still go on to start new companies, so the claim of these particular selection mechanisms is that they are intensifying S so as to increase R: selecting the "best" of V, those with the most potential for retention and propagation by the market. As an overall strategy to enhance Selection, we would look to increase market competition in general, removing protective barriers around certain industries and firms, for example. A perennial complaint about some European economies (and conclusion of numerous McKinsey reports) is that they are not as competitive as the United States--stultified selection suppresses innovation and economic growth. It's also conceivable that simply increasing V would naturally increase S (they are, after all, multiplied by each other)--more firms overall would mean more firms competing. 

These notions of Selection, however, presume that any selection process, whether in biological evolution or in free market competition, is an optimizing one--that the "best" organism or population or idea or company always beats out inferior competitors. Adaptive fit, after all, implies such optimization. Yet we know that natural selection is only one way in which genes and organisms are winnowed and propagated. The role of accident and randomness in evolution cannot be forgotten: we like to think of dinosaurs as having met their proper evolutionary fate because they were all slow and dim-witted. But many evolutionary theorists have pointed out that, if a meteor or volcanic explosion did the dinosaurs in, then that isn't necessarily "natural selection" in terms of adaptation and competition. It was an exogenous event and the emerging population of smaller mammals happened to be better suited for survival. So, yes, an exogenous event "selected" out dinosaurs, but it wasn't necessarily the "optimizing" path we like to imagine. The same applies to the selection process in terms of firms and ideas: Silicon Valley bested Boston and Dallas because it had a better ecosystem, the selection process was more optimizing. But what if William Shockley's mother lived in Dallas, not Palo Alto? What if Frederick Terman had not contracted tuberculosis and had ended up returning to MIT? I realize these are entirely speculative and that the obvious riposte is, 'Well, that's just how things happened.' My point is simply that we shouldn't assume that Selection always implies optimizing; human behavior and group dynamics are such that the economic process contains plenty of satisficing behavior. (We also shouldn't forget that an entity such as a firm can become over-adapted to certain circumstances and thus too sessile to change; selection could work too well.)

Finally, how would we enhance Retention? What would this mean? It could entail somehow promoting those firms that are selected--say, those that survive to age six--via certain rewards such as a retroactive tax credit or something like that. Or, it could mean favoring those firms that grow rapidly in their first few years and have rapidly passed through V and S and we want to enhance their retention and propagation. It could mean reducing barriers to "scale," whether in the form of regulations, corporate taxes, whatever. (I continue to maintain, however, that the effect of certain taxes on entrepreneurship is not nearly as straightforward as some might like to believe.) Maybe we think of Retention as going public, in which case perhaps changes need to be made to Sarbanes-Oxley. Over the past few years, around 80% of VC exits have been acquisitions, not IPOs, and many of the companies coming out of accelerators are acquired by companies such as Google.

In any case, I don't know if this has added anything to the general discussion of entrepreneurship and economic growth or not. If we think about startups through the BVSR model, there are probably certain areas in which we can make changes to enhance the economic impact of startups, although some of them steer quite close to "picking winners." In general, as I said, I favor increasing V, but I'm as yet unclear as to how we go about doing this. Importantly, increased Variation should apply to firms of all types, not simply in favored sectors or those sectors we think (or would like to think) represent promising areas of innovation. Firm formation and innovation are compounding phenomena, so increasing the overall level of startups should (emphasize, should) raise our rates of innovation and growth, and this should be true whatever sector of the economy we are discussing. Information technology has been hugely important for American productivity, both in its production and its use in sectors like retail. We needed IT, but we also needed all those new retail outlets and supply chain innovations for the IT to become productive. It's possible that a BVSR-type of analysis in, say, 1995 might have concluded: we need more IT startups and fewer new retail stores. The economy might not have performed as well as it did.

More on Friedman

Here is another, albeit similar, take on one particular response to Thomas Friedman's Easter column celebrating startup companies. By the way, while you visit the PPI website, be sure to read Michael Mandel's policy memo on why the jobs crisis may well be an innovation crisis. 

Defending Thomas Friedman on Job Creation and Startups

In his column yesterday, New York Times columnist Thomas Friedman quoted Kauffman's Bob Litan about the importance of new and young firms to job creation and emphasized the importance of immigrants to firm formation. It was a trademark Friedman column: factoid, examples, quotations from experts, and concise policy lessons. I'm biased because Friedman used Kauffman data, but it was a good column.

Not everyone, however, wants to hear about the economic change that new firms and immigrants visit upon the U.S. economy. At Beat the Press, Dean Baker took issue with Friedman's column and Kauffman's data. With a layer of snark that is by now wearily standard in the blogosphere, Baker writes: "Friedman's conclusion about the special importance of new firms is utter nonsense." His logic:

The claim that most net new jobs came from new firms conceals the fact that existing firms added tens of millions of jobs in this 25-year period. Of course existing firms also lost tens of millions of jobs. We can say that the net job creation for existing firms was zero, but if we did not have an environment that was conducive for the job adders to grow (how many jobs did Microsoft, Apple, and Intel create after their first 5 years of existence?), then existing firms would have lost tens of millions more jobs.

Well, yes, that's true--and that's precisely the point. There are basically two ways to look at job creation in the economy: gross and net. On gross terms, large existing companies hire thousands of people each year, but they also see thousands of people leave, voluntarily or involuntarily. Gross job inflows and outflows in the American economy are enormous, an indicator of the ongoing and dynamic reallocation of resources that drives economic growth.

At the end of the day, however, if we want to keep pace with an expanding labor force (new entrants) and changing economy (the rise and fall of sectors and companies), what matters is net job creation. We have fifteen million people unemployed in the United States right now, and over the next several years net job creation has to proceed at a remarkable pace to not only provide jobs for this population but also create jobs for the millions of new people who will enter the labor force in the coming years. The last two years have seen the two biggest matriculating classes ever in American higher education, which means that in four or five years we will see a large influx of new graduates searching for jobs. How does Baker propose we keep pace with such growth?

From a macro perspective, for keeping pace with this growth, the only thing that matters is net job creation. It would be little consolation if we had 100 people looking for jobs, and large company ABC hired those 100 people but also fired 100 different people. For Baker, this is a good thing. And it is--for the 100 people who were hired. But what does Baker do with the 100 newly unemployed folks? Relate to them the wonders of big companies and their gross hiring?

Big, established companies are indisputably important--the symbiosis between new and old, small and large is a key strength of the U.S. economy. But we only get net job creation--a positive increment of new jobs to keep pace with labor force growth--from new and young companies. True, this population is highly dynamic, equally adept at creating jobs as eliminating them. Whereas this dynamic process works out to a net gain of zero in big companies, the net result among new and young companies is positive. If you subtract startups from the American economy over the past thirty years, there is only a handful of years in which the economy would have created a positive net number of new jobs. This makes sense as a brand new company can only create, not destroy jobs, but from the perspective of adding new jobs--for those 100 people above--this doesn't change the fact that new jobs come from new and young companies.

Baker also neglects to mention that once a company survives to a certain age (at age six a company is no longer classified in the data as "young") it becomes not an organic generator of jobs but an acquirer of new jobs via other companies, which are largely young and small. Baker asks, seemingly rhetorically, how many jobs Microsoft added over the age of five, but companies like Microsoft and Intel and eBay and others can generally only add a positive increment of net new jobs by acquiring young companies. So even the appearance of net job creation in our largest companies reflects the contribution of new and young firms. None of this, moreover, even begins to approach the role of new and young companies in innovation and economic expansion--not monolithic growth but the evolution of sectors and firms into new and unknown territory.

Baker also appears to cast cold water on Friedman's emphasis on the importance of immigrants, but doesn't dwell on it. There is, however, a faintly palpable nativist tinge in the comments to Baker's post. Why bring in "foreigners" to start companies? Don't we trust Americans? Nowhere, however, does Friedman (or Kauffman) claim that Americans are insufficient for entrepreneurship. In fact, immigrants who start companies in the United States create thousands of jobs for Americans--who could argue against that? For a country made great on a history of immigration, the United States risks falling prey to nativist sentiment from both the right and the left, which will inevitably stifle economic dynamism.

In criticizing Friedman (and Kauffman), Baker tries to cover his tracks with snark, wishing someone would revoke Friedman's license to discuss economics. In an altogether brilliant post last week, Michael Pettis observed, "Snarkiness is always a sign of intellectual insecurity or confusion, and never an indication of insight." Rather than snark, Baker should consider how his vision of a big-companies-only economy would lead to stultified job growth, harming the people he claims to want to protect.

Crucible and The New Colossus

Health care reform is law. Now can we talk about something else?

Next up on the policy-making agenda in DC is, hopefully, immigration reform. We've long advocated here at the Kauffman Foundation for something like a Startup Visa, a program that would grant citizenship to migrants who want to (and are able to) create new firms and jobs in America (but be sure to read this counterpoint).  I go one step further, and believe America would be wise to return to its roots as a more open society in general, not just with the high-skill immigrants.

As the "nation of immigrants" embarks on another policy discussion, it might help to keep our cultural heritage in mind.  I often hear the words of Emma Lazarus echo in my mind, for example.  The words of her poem, The New Colossus, inscribed on the plaque that has been mounted since 1903 on the inner wall of the pedestal of the Statue of Liberty:

Not like the brazen giant of Greek fame,
With conquering limbs astride from land to land;
Here at our sea-washed, sunset gates shall stand
A mighty woman with a torch, whose flame
Is the imprisoned lightning, and her name
Mother of Exiles. From her beacon-hand
Glows world-wide welcome; her mild eyes command
The air-bridged harbor that twin cities frame.
"Keep, ancient lands, your storied pomp!" cries she
With silent lips. "Give me your tired, your poor,
Your huddled masses yearning to breathe free,
The wretched refuse of your teeming shore.
Send these, the homeless, tempest-tossed to me,
I lift my lamp beside the golden door!"

And then there is the play, The Melting Pot, published in 1908.  In it, the protagonist proclaims,

America is God's Crucible, the great Melting-Pot where all the races of Europe are melting and reforming... Germans and Frenchmen, Irishmen and Englishmen, Jews and Russians - into the Crucible with you all! God is making the American.

Searching for Startups ... with Co-Conspirator Bob Cringely!

For thousands of entrepreneurs, Bob Cringely is more than a guide to the inside world of technology and innovation, he is a co-conspirator. I bet that half of the tech entrepreneurs of the 1990s were inspired by his documentary "Triumph of the Nerds." I can attest that at Neocor, in the summer of 1996 especially, we had that video on as background noise almost daily. We got so used to Bob's voice that we thought of him as a co-founder (he'll probably ask for some loot soon...).

So I'm very, very pleased to announce that Bob has invited the Kauffman Foundation to literally conspire with him on his next project. It's going to be huge. Here's the announcment posted on his I,Cringely blog:

Today is a great day for I, Cringely and for me. It is the day we launch the special web site for Cringely’s (NOT in Silicon Valley) Startup Tour. I wrote a column last month announcing the Tour ... but today marks the actual start of this summer’s adventure, because it opens nominations.

Visit the new web site here

... Just to recap what I announced last month, my family and I will this summer saddle-up our 1996 Winnebago motor home to visit all 24 finalists, taking with us a TV camera crew. We’ll spend two days at every company, camped in the parking lot or in the CEO’s driveway. Two days is how long it usually takes for my kids to use up all the water and demand a trip to Redbox for new videos.

In addition to two months of ongoing text, audio, and video coverage right here, the 24 finalists will appear in my 12-hour reality TV series which will be on a BIG cable channel, one you have actually heard of that does not include the word “shopping” in its name.

New Paper on Firm Formation

Why is the annual number of new companies so constant? Read it here.

Field of Dreams is an Awesome Baseball Movie, not an Economic Development Strategy

By some estimates, the United States currently has vacant office space running into the hundreds of millions of square feet: law offices, Fortune 500 companies, cookie-cutter glass boxes constructed on sandpiles of debt, etc. And, as discussed previously, commercial real estate (CRE) could very well be the next economic shoe to drop, dragging down whatever economic recovery is materializing. 

At the same time, it's increasingly clear to more and more people that recovery and expansion simply won't happen without entrepreneurs: new companies that bring innovations to market. Entrepreneurs are not the silver bullet solution, yet growth will not occur without them. 

So let's see: how could we possibly address a looming CRE problem as well as encouraging incipient and potential entrepreneurs? Got it! Construct completely new science parks! Ignore both problems and travel a well-trod path that, if not inspired by Field of Dreams, at least follows the same blueprint: Build it and they will come. 

Oh, wait, hold on a second, I'm being told that this idea is already being pursued--it seems that Congress has taken time from its time-consuming BCS debates to pass legislation that will ostensibly "spur innovation [and] economic with development" by building science parks. And wouldn't you know it, the bill miraculously finds empirical support from the Association of University Research Parks. This is a page right out of the NVCA's playbook.

Not that science parks are necessarily bad, but evidence on their effectiveness appears mixed and, in any case, the concept would seem to contradict, you know, the entire history of innovation.

The bill's title is "The Building a Stronger America Act," which should not be confused with Build a Stronger America, an entrepreneurs' movement that seeks, inter alia, to expand the popular notions of entrepreneurship and innovation beyond science parks and venture capital, beyond the idea of walling off our "innovators" from the huddled masses of ordinary humans.

One of the absolute best pieces to read on how innovation happens is J. Rogers Hollingsworth's chapter on "High Cognitive Complexity." Synthesis, not separation, is the key.

Update: Kedrosky has written a wonderfully scathing post focused on the CRE part of this issue.

Breaking Through Barriers to Innovation

The search is on for ideas that will stimulate short- and long-term economic growth in the United States without further adding to the budget deficit. Here's a no-brainer: allow university researchers with innovations that are ready to be commercialized to shop around to different technology licensing offices. 

That's the idea advanced by Kauffman Foundation vice-presidents Lesa Mitchell and Bob Litan in the forthcoming issue of the newly revamped Harvard Business Review. This issue features the top "Breakthrough Ideas for 2010" and, happily, this idea comes in at number 6!

Currently, if you are a professor with a new technology or innovation, you typically must work through your own university's technology licensing office (TLO). This is inefficient for a variety of reasons. For one thing, not all TLOs are created equal: some have greater skill than others, while a handful excel. Several decades ago, federal funding of academic research was dramatically skewed toward those universities that engaged in the most commercialization: patents, licenses, spinoffs, etc. In the last twenty or thirty years, the distribution line of federal funding has flattened considerably, with a greater number of schools receiving money than before. This is not to say that the distribution is equal, but it's much less skewed than before.

Here's the kicker: the distribution of innovation output--patents, licenses, startups--has not changed. It's still skewed toward a handful of schools despite the huge increase in the number of universities receiving federal R&D money. We are not reaping the benefits of innovations that are presumably emerging from all that research and development. 

While some TLOs are more competent than others, moreover, it's also likely that such competence varies by area: one TLO may excel at commercializing life science discoveries while another may have a comparative advantage in computer science. Opening up the market for discoveries and commercialization should help iron out the inefficiencies and barriers that exist.

Kudos to Lesa and Bob for a fantastic article and for advancing a top Breakthrough Idea of 2010.

Credit Supply and Demand: What to Make of the NFIB Survey?

A recent survey by the National Federation of Independent Businesses (NFIB) has garnered some attention for suggesting that demand for credit among small businesses is the problem, rather than a restricted supply due to tighter lending standards. The implication is that, contrary to President Obama's recent proposals to expand the flow of credit to small businesses (and our own discussion here on Growthology), the credit pipeline is secure if only businesses would access it. With consumer demand still rather sluggish, small businesses may see little reason to pursue new credit. 

Clearly, many businesses face difficulties in obtaining credit from banks; indeed, the weight of anecdotal evidence seems to support the notion that this is a supply problem, as do other surveys pointing to a spike in the number of companies reporting difficulty getting loans. I spoke with Ann Meyer of the Chicago Tribune last week who noted that not one company she has encountered in Chicago reports an easy time of getting credit. The Kauffman Foundation's recent work in Detroit seconds this perspective. 

And, indeed, the October Federal Reserve Senior Loan Officer Survey did find that "domestic banks indicated that they continued to tighten standards and terms over the past three months on all major types of loans to businesses and households." Supply of credit, in other words, continued to be an issue.

But that's not the whole story. The Fed survey also indicated that the percentage of banks tightening standards has fallen over the last year--the supply pipeline is easing. In fact, the percentage of banks reporting tighter standards for loans to small businesses is at 2007 levels. Demand, moreover, "for most major categories of loans at domestic banks reportedly continued to weaken," albeit at a somewhat slower pace.

The question of credit, particularly to small businesses, is a thorny issue. Supply and demand both seem to be at work here, with the preponderance either way likely to vary by region. Meyer, in fact, pointed out that a problem with the NFIB survey is that it is skewed toward non-urban regions and businesses and thus doesn't represent the business conditions in places like Chicago. This seems like a fair point and echoes other criticisms of the NFIB. Two further issues require brief mention.

One is the apparently ballooning problem in commercial real estate with, by some estimates, half a billion dollars in bad loans preparing to come due and eat up banks' balance sheets. What does this have to do with credit for small companies? As the Atlanta Fed recently pointed out, the banks holding a large chunk of these CRE loans also happen to be the same banks that lend to small companies. 

Second, any discussion of credit for "small" businesses inevitably elides over an essential corner of the economic universe: new and young companies. True, these are often coterminous with small business, but it doesn't mean the interests of a five-employee startup will coincide with the interests of a five-employee, 25-year-old company, particularly in different industries. Credit problems pertaining to "small" businesses won't necessarily apply to new and young firms, especially since a primary source of financing for the latter category is the proverbial trio of family, friends, and fools, as well as personal credit cards. True, using one's credit card or home equity line isn't exactly easier than it was two or three years ago, but this means an easing of credit availability aimed at "small" businesses may not have (much of) an effect on the fortunes of new and young companies, which are the real sources of job creation in the American economy.

The Market is Moral

Nobel laureate Edmund Phelps (also a Kauffman grantee) published this stellar essay last month, which I belatedly read today:

The definition of economics with which most textbooks begin—“the study of the allocation of scarce resources”—is accurate but misleading, for it leaves out the most interesting part of the problem. 

In truth, we are forever innovating to stretch our resources. Transportation was one of the scarcest goods during the first half of America’s nineteenth century, but by the end of the century the railroads had made it so abundant that the face of America changed irreversibly. That could be said today about information. Innovation makes scarce goods abundant. This quest to do better, to go farther, to extend our reach is part of what makes us human. There is more to economics than the desire to consume and to avoid risk.

Which brings us a step closer to connecting morality and economics. Morality, after all, is more than obedience to the rules of social conduct; to be moral is to foster the betterment of humankind. If we place innovation at the center of economics, then we in effect make a sweeping assertion about human nature—for we claim, at some level, that man is an innovator. 

 

Would a Jobs Credit Work? A Response to Pozen

(Bob Litan)

Main Street is impatient with the pace of the recovery. Yes, the stock market has rebounded smartly from its March lows; and yes, government statisticians tell us that total output of goods and services actually increased at an annual rate of 3.5% in the third quarter, most likely marking an official end to the Great Recession. But on Main Street, unemployment has now passed 10%, and many more Americans are discouraged from looking for work, or engaged in part-time jobs unable to upgrade into full-time work.

No wonder then that policy makers in both political parties are frantically searching for ways to reverse the monthly job losses and start putting more Americans back to work. One idea that has attracted a lot of attention is a temporary tax credit or a partial or total suspension of the payroll tax to encourage employers to begin hiring again.

Robert Pozen, a thoughtful and experienced financial expert, recently provided some useful analysis of this idea, and came up with a highly targeted job creation proposal designed to provide the largest bang for the policy bucks (to minimize the impact on the uncomfortably large federal deficit). The notion is to provide a 15% tax credit, up to $100,000 per employee, for employers making net additions to their payrolls, but require that half of the new workers come from the ranks of the previously unemployed.

However, this proposal would limit the credit only for already established employers – those in business prior to some cutoff date (Pozen suggests September 30th of this year). The rationale for excluding all new firms from eligibility is to prevent existing firms from breaking themselves up or forming new subsidiaries or affiliates simply in order to qualify for the credit.

What sounds like a minor detail – the eligibility cutoff – would actually be a big mistake--for it reflects a fundamental misreading of which firms are most likely to hire new workers and sustain the recovery after the stimulus measures wind down and are eventually withdrawn.

A new Kauffman Foundation study documents that over the past three decades, until this recession, new firms (those one to five years old) have been responsible for much or all of the net new jobs created in our economy. Remarkably, even in the teeth of the recession, through 2008, the number of new business starts, as measured by another Kauffman study, has actually increased modestly. What we don’t know is whether the constraints on business credit or other impediments will deter these new firms, as well as those recently created, from continuing the historical pattern by being the prime source of net job creation now and in the years ahead. What do know, though, is that excluding new firms from receiving any job tax credit will certainly break that historical pattern – hardly the outcome anyone wants.

Fortunately, there is much more straightforward way to prevent the kind of gaming that Pozen worries about: in calculating the employment benchmark for determining whether a firm has added to its payrolls, the tax authorities should include all subsidiaries and affiliates in which a firm has an equity interest above a certain threshold (such as 10% of  an entity’s equity).

Meanwhile, policy makers should continue to look for other ways to boost the formation and growth of new companies, which are not only likely to be source of new jobs but of the next wave of new products and services that will restore optimism about our economic future.

Some examples: Establish a “job creator’s” visa for immigrants who launch new companies and hire workers; fix bank capital requirements so that they are less likely to discourage business lending in economic downturns (by making the requirements less pro-cyclical); allow shareholders to determine whether their companies should adhere to all or a portion of the requirements of the Sarbanes Oxley Act that make it more expensive for high growth companies to go public and thus expand on their rather than to sell out; and encouraging the development of a truly free market in the licensing of technologies developed by our universities using federal research funds, which would accelerate the commercialization of innovations that will reshape our future. (The House Financial Services Committee recently voted to extend the exemption of small companies from Sarbanes-Oxley's section 404(b). The measure still needs to pass the full House and Senate and does not affect the requirement that these companies comply with section 404(a).)

Agree or disagree, as you may, with some of these specifics. But the source of America’s remarkable job growth, our new firms, is not in dispute. As we all seek to dig our way out of our current economic hole, we cannot leave our entrepreneurs out of the solution, because they are the solution.

--Bob Litan

Replace all Entrepreneurship Programs with Sales Training

In a comment on last week's WSJ op-ed, John Fox of Venture Marketing offered the following thought: "it is exasperating to find so little sales training or formal education available [for entrepreneurs]."

This is a subtle yet insightful point. A colleague once suggested that if our aim is to create more entrepreneurs or at least better prepare potential entrepreneurs, we should replace all entrepreneurship education programs with basic sales courses. After all, and to Fox's point, entrepreneurs are engaged at every step of the way in selling something: an idea, themselves, a product, a vision.

The Israel Model

Lo! What's this? A dispatch from our long lost co-blogger Bob Litan! Bob has evidently read a new book and, um, I can't really tell, but I think he likes it.

With the widespread concern about how the U.S. economy is going to generate new jobs and output on a sustained basis after the huge stimulus is withdrawn, the time could not be better to read a new book that tells one country’s remarkable story how it has done it. The country is Israel, and the book is appropriately titled Start-Up Nation: The Story of Israel’s Economic Miracle by Dan Senor and Saul Singer.

This is such a good book I don’t know where to begin with my raves. It is brilliantly written and chock full of great stories that have long deserved a wider audience, and they’ll now have it. Want to know who saved Intel? Read this book! Want to know how a country with deep socialist roots – the collective farms known as kibbutzes have long been a major symbol of Israeli society (inside and outside the country) – has been fundamentally transformed into one of the hottest entrepreneurial hotbeds in the world? Then read this book! Want to know how this all happened? Read this book!

And after you do that, or actually as you’re reading, questions will inevitably pop into your mind. Most important, at least for me: What can the United States learn from the Israeli experience? Knowing that we don’t or ever will have some of the most important keys to the Israeli success – the external fear of being encircled by hostile countries and thus the need to make-do with whatever resources are available, or compulsory service in a military where privates or lesser officers can tell their superiors they’re wrong – what can we nonetheless do to improve our own entrepreneurial networks and attitudes toward prudent risk-taking that the Israelis seem to have mastered?

Readers surely will not stop there. Many will be tantalized, perhaps upset, by the authors’ comparisons of the Israeli miracle with the struggles that its Arab neighbors have long had attempting to diversify out of oil. Others may wonder, as the authors themselves worry, whether the Israeli entrepreneurial machine will slow down now that the tidal wave of Russian immigrants has receded.

But I'll bet no readers come away from the book without being awed by what Israel has been able to do, and without being impressed by the authors' impressive way of telling this story.

--Bob Litan

Where Have All the Loans Gone?

Last week the Obama Administration announced the expansion of a few Small Business Administration (SBA) loan programs, raising the cap on 7(a) loans, increasing the size of "microloans," and offering more aid, via TARP, to community banks. Questions will persist about the efficacy of SBA loan programs for new and small companies, as well as the effect of TARP restrictions on community banks, but two things are immediately clear. 

First, business loans have plummeted during this recession (via Econompic):

Worse, they show absolutely no upward trend in recent months:

(Source: John Mauldin.)

Any expansion of capital for businesses, even from the SBA, should theoretically help in some way. Credit is the oxygen line of new firms and they have been courting asphyxiation in this recession. 

Second, new and young businesses are the primary source of net job creation in the United States, yet this fact of economic life has for the most part been lost on policymakers (and media) obsessed with restarting the hiring process at large, established companies. Any recognition, therefore, of the importance of new firms and their access to capital can only be a good thing.

These steps aren't a silver bullet, mind you, and officials in Washington and every state capital continue to cast around for anything that will address (or appear to address) the dire employment situation this country faces. Nonetheless, President Obama's announcement is a step in the right direction and it comes on the heels of the creation within the Department of Commerce of a new Office of Innovation and Entrepreneurship. New firms are the drivers of job creation, and now Washington is finally turning to them.